It’s possible all that weight has momentum

The stellar start to the year highlights what will be a major theme for investors in 2013: those who have done well from safe-haven assets over the past five years are now getting nervous about missing a huge rally if there is a recovery in earnings later this year.

Analysts have made much of the billions of dollars that have been yanked from bond funds around the world and tipped into share funds.

The so-called weight-of-money argument has been used as a reason for the rise in shares around the globe during January.

There’s some merit to that.

Over the past seven years as much as $US800 billion has been given to bond funds and, at the same time, $US600 billion has been taken out of equity funds. If investors switch back into shares, then it can have a major impact on share prices.

The weight-of-money argument was a pillar for the stockmarket when investors enjoyed a fantastic four-year run starting in 2003.

Back then investors believed the long-term future of the local stockmarket was inextricably tied to superannuation savings growth.

Not all that superannuation money went into the local sharemarket but a healthy portion did and, as the market rose for those years – delivering double-digit returns – the weight-of-money argument gained credence.

Related Quotes

Company Profile

But if the financial crisis taught investors anything, stockmarkets are cyclical beasts and are apt to change direction abruptly.

The problem with the weight-of-money argument is that, no matter how large and assured it seems, the flow of funds needs only to dry up for a day or two – possibly triggering a sharp sell-off – to show how the weight of money works in reverse.

It’s tough to pick major turning points in financial markets. Investors should be ready for sharp moves in either direction and that’s why professional managers will rebalance holdings back to previous benchmarks or weightings. (And top up holdings in stocks that have declined in price when they do.)

There’s also a cyclical aspect to the recent gains.

January is historically a good month for shares and investors have now had a tough time for five years.

When shares have done poorly for five years at a time in the past – for example, 1894, 1930, 1942, 1972 and 1992 – the next five years has rewarded investors with average annual returns of about 13 per cent.

No one will want to miss that.

It is also getting harder to justify owning safe-haven assets as valuations are stretched on most of them.

Holding cash is also getting very expensive. If the official cash rate falls to 2.5 per cent in 2013, then it means the real cash rate will have been below zero for more than a year for the first time since 1975.

However, it seems that most economists are starting to wind back their interest rate expectations and maybe there is just one more cut to come, which would put the official cash rate at 2.75 per cent.

Term deposit rates are still tipped to fall further. A few years ago as much as 8 per cent was a possibility but now they are falling to as low as 4 per cent.

Still, investors are hoping that lower rates in 2012 will flow through to housing and retailing as momentum in the mining investment boom slows.

The first big test for investors will be next week’s profit season as the accompanying graph shows. If there is no decent news of earnings then the recent gains will struggle to be maintained.